Transcript Unintended Consequences of Alberta’s New Royalty Framework

“Unintended Consequences of
Alberta’s New Royalty
Framework”
Mr. Gordon Stollery
Board of Directors
Highpine Oil & Gas Limited
Tuesday, April 15, 2008
1
Definition
Unintended consequences are outcomes that
are not (or not limited to) what is intended in
a particular situation. The unintended results
may be foreseen or unforeseen, but they
should be the logical or likely results of the
action
2
$80/bbl vs. Oil Rate
7-April-
60%
50%
At 100 bopd, NRF is 44% and 3rd Tier is
24%, this represents an 83% increase
Royalty Rate (%)
40%
30%
20%
10%
NRF
3rd Tier
New Oil
0%
0
20
40
60
80
100
120
Production Rate (Bopd)
140
160
180
200
3
New Royalty Framework (“NRF”)
Summary

THE PROPOSED NEW ROYALTY FRAMEWORK WILL
UNINTENTIONALLY HURT ALBERTA (PUBLIC AND
PRIVATE) BASED OIL & GAS COMPANIES, EMPLOYEES
AND SERVICE PROVIDERS
•

These Companies drill 60% of the NEW EXPLORATION wells in
the Province
THE PUBLIC ARE SYMPATHETIC TO THE QUESTION –
“WOULD MORE BE FAIR?”
•
The Public doesn’t realize “BIG OIL” earns vast amounts from
their overseas operations where royalties are higher but the
assets are significantly larger – Alberta’s average well is only
18 B/D, versus Norway at 6,000 B/D and Alaska at 600 B/D –
Alberta’s Average Oil Pool is 0.5% of the Average World Pool
4
New Royalty Framework (“NRF”)
Summary

THE PROPOSED ROYALTY PLAN IS NOT A “20%”
INCREASE
Natural Gas – for a modest well producing 600 MCF/D, the
royalty rate increases from 30% to 50% = “66 2/3%
increase”
Oil – Depending on the size of the well, under the NRF the
royalty rate increases from approximately 26% to 50% =
“approximately 100% increase”

FIRST ALBERTA LAND SALE of 2008 WAS $25
MILLION COMPARED TO
$78.5 MILLION IN 2007
•
Yet Saskatchewan and B.C. saw substantial increases
5
New Royalty Framework (“NRF”)
Summary

CANADIAN OIL & GAS COMPANIES HAVE SEEN THEIR
EQUITY PRICES FALL SINCE THE ANNOUNCEMENT
•

There are only nominal amounts of new equity coming into
Alberta financings. Over the last 3 years only 27% of capital
investment for Canadian independent oil & gas companies has
been from cash flow – the balance were funds from new
equity funding (46%) and debt (27%). With the NRF, new
equity and bank borrowings will be a scarce commodity.
There will be major cut-backs in activity which will affect
hundreds of small businesses, shops, hotels, restaurants in
every community.
ECONOMICS – AT $80 PER BARREL
•
Companies are earning, before Federal and Provincial Income
Tax, approximately $37.50 netback per bbl for light oil. The
new royalty rates would reduce the netbacks to
approximately $20.50 per barrel. But, the averaging Finding
& Development Cost equals approximately $20-25 per barrel.
6
New Royalty Framework (“NRF”)
Summary

THE GOVERNMENT SHOULD GRANDFATHER
EXISTING WELLS
• Companies require the cash flow to re-invest.
Otherwise, capital will not be available to maintain
existing production and then overall royalty income
to the Province will actually decline.

CROWN LAND AGREEMENTS
•
Any company that purchased land leases at the
Alberta Crown Sales last year or the year before
assumed certain in place economic parameters.
Now the Return on Investment (R.O.I.) has been
drastically reduced – Companies will now state,
“We want our LAND MONEY BACK”.
7
Unintended Consequences of the NRF
The proposed NRF will result in an immediate reduction in cash flow, investment
capital, drilling and production, resulting in Alberta actually receiving LESS royalties by
mid-2010
•
Penalizes junior exploration companies
• Royalties on high risk/high rate wells double under NRF,
rendering these projects uneconomic
• Canadian junior explorers drill 60% of the new exploration wells in
the province
• High rate oil wells pay 60% of the conventional oil royalties
• Enhanced Oil Recovery (“EOR”) projects on existing wells are
discouraged
•
Cashflow, investor confidence and investment capital lost and
bank lines reduced
• Juniors do not fund themselves the same way as major oil
companies or utilities – i.e. 70/30; Debt/Equity
• Juniors over the last 3 years have been funded as follows: 46%
equity, 27% debt, 27% cash flow
•
Anticipate reduction in government revenues of $400 million
estimated over the next five years
• Reduced investment activity means lower production base
• High risk/high rate wells, which pay 60% of the current royalties,
will not be drilled
8
Land Sales
Lowest land sale bonus paid since 2002
9
Cost Escalation is Real !
•Costs have risen
dramatically in a very short
time period
•Economic comparisons and
studies have failed to keep
pace with relevant costs
•Alberta royalty framework
must provide a return on real
costs
10
Unintended Consequences: Signs of Domino Effect
Juniors Require and Reinvest Capital
Oilpatch Equity Financings
New Investors
60%
1200
Banks
10%
1000
Cashflow
30%
Capital
Spending
800
$ millions
$thousands
Alberta Growth
Engine
Dramatic capital reduction
600
AB Conventional
Other
400
200
• NRF capital concerns
0
• Major loss of cash flow
Oct-05
Oct-06
Oct-07
• No equity available for investment
• Reduced bank lines
• With lack of external and internal funding, capital budgets being cut and overall
oil field activity will drop
Uneconomic = No investment = No activity = Royalty Shortfall
Data Source:Sayer Energy Advisors
11
Unintended Consequences: Signs of Domino Effect
•
Drilling rig utilization 35% below last year
•
Since the AARP report was released the
average share price of a cross section of
Non Alberta Oil & Gas Companies has
risen approximately 48% and the average
price of a number of Alberta based Oil &
Gas Companies has declined by 17%, (see
graph next page)
Oilpatch Equity Financings
$MM
1,200
1,000
AB Conventional
Other
800
Dramatic capital
reduction
600
•
First Alberta land sale of 2008 dropped to
$25 million from $78.5 million a year ago
– Daily Oil Bulletin
400
200
•
Saskatchewan and B.C. land sale revenue
and activity increasing
0
Oct-2005
Oct-2006
Oct-2007
Data Source: Sayer Energy Advisors
Uneconomic = No Investment = No Activity = Royalty Shortfall
12
Investors Have Sold & Walked Away
From Alberta Focused Companies
Comparison of AB/SK focused Junior Oil & Gas Company
share price performance following AARP
announcements
60%
50%
OCT 24/07
Government Decision Announced on
AARP Report Released
SEP 18/07
AARP Report
Released
40%
CPG.UN, PRY.A, PBG
Relative Performance
30%
20%
Average Share Price of Non-Alberta Focused Oil
and Gas Companies
UP 48%
10%
Average Share Price of Alberta Focused Oil and
Gas Companies
DOWN 17%
0%
-10%
-20%
ACN, WAV.A, GO.A, HPX, KCO, WTL
-30%
-40%
9/18/07
10/02/07
10/16/07
10/30/07
11/13/07
11/27/07
Sask and BC Average
12/11/07
12/25/07
1/08/08
1/22/08
Alberta Average
13
Sources of External Capital have Disappeared
Therefore Capital Expenditures in Excess of Cash Flow
Will Cease
•
Junior Canadian Oil companies have spent over 3x their
internal cash flow over the past 3 years
•
The capital in excess of cash flow is mostly sourced
external to Alberta
and has dried up
•
With the lack of external funding, capital budgets will
be cut and overall
oilfield activity will drop substantially
•
For every dollar spent by the oil business in Alberta,
$4.60 dollars flow
to the general economy*
*R. Mansell – University of Calgary
14
Economic Returns do not justify the costs
under the NRF
•
Canadian junior explorers have posted low or negative net
earnings even at high oil prices as costs in the Alberta
basin escalate and reserve sizes decrease
•
Finding & development costs are averaging approximately
$20/barrel of oil equivalent, (BOE), as verified by National
Instrument 51-101 compliance requirements
•
Another calculation is depletion, depreciation and
accretion expenses (DD&A) which are an approximation of
Finding and Development costs. These expenses are an
ongoing normal write-down of assets as they are used in
business. The Median of DD&A for 77 public companies for
the third quarter 2007 equated $23.76/BOE which is
greater than the Cash Netbacks/ BOE after the Proposed
New Royalty Framework. (Source: Iradesso Quarterly).
•
Under the proposed new royalty, deep exploratory wells
for conventional oil are rendered marginal or uneconomic
15
Deep ‘Half Cycle’ Light Oil Exploration
Initial Returns vs. NRF = NO ECONOMICS
Current
Proposed
US$80/Bbl
US$80/Bbl
Field Price
C$70/Bbl
C$70/Bbl
Royalty
C$18/Bbl
C$35/Bbl
WTI Price
Operating/
Transport
G&A/Interest
Cash Netback
C$12.00/Bbl
C$3.00/Bbl
C$12.00/Bbl
C$3.00/Bbl
C$37.00/Bbl
Cash Netback
F&D Cost
Recycle Ratio
(Dollars Returned
divided by dollars invested)
C$25.00/Bbl
$1.48 returned for
every $1.00 invested
C$20.00/Bbl
C$25.00/Bbl
$0.80 returned for
every $1.00 invested
16
Projected Royalty Revenue will Actually go Down
due to Low Activity Levels
•
As a result of a lack of capital and resulting
lack of drilling activity, it is projected that
Alberta will actually receive less royalties by
mid 2010
•
High levels of capital investment are
essential to curb production decline in a
mature basin
•
The capital required to maintain production
targets is not available under the terms of
the NRF
17
At Current Prices Alberta is Already Collecting
$1.4 Billion More In Royalties
•
Alberta does participate in the price upside since
the province collects its royalties “in kind” and
sells its oil at the world price
•
As a result of the current $90 price of oil, Alberta
is already collecting an additional $1.4 billion
annualized in royalties, relative to the $60 price
level that was used in the Royalty Review Panel
Report
18
Huge Gaps in Royalties Paid
•
5% of Alberta’s existing wells pay 60% of the
royalties
•
The majority of these wells are deep and have
been drilled in the last 5 years
•
The new royalty renders most of the deep
conventional plays uneconomic
•
It is estimated that the majority of deep
exploration activity will cease under the new
royalty proposal
19
Unintended Consequences
Truly an unintended consequence - High
productivity wells pay disproportionate share of
royalties, which would NOT be drilled under NRF,
as drilling becomes uneconomic.
5% of the wells (high productivity) pay 60% of the royalties
20
$80/bbl vs. Oil Rate
7-April-
60%
50%
At 100 bopd, NRF is 44% and 3rd Tier is
24%, this represents an 83% increase
Royalty Rate (%)
40%
30%
20%
10%
NRF
3rd Tier
New Oil
0%
0
20
40
60
80
100
120
Production Rate (Bopd)
140
160
180
200
21
Summary
•
Recently announced solutions to unintended
consequences do nothing for high productivity oil
•
•
Nothing for development wells
•
•
$1 million exploratory credit (post April 10th 2008) depths
greater than 2000 meters
Gas was awarded royalty credits for development, why not
oil?
Does not address real costs of exploring and
developing high productivity premium crude
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